Three mistakes home buyers make

Three mistakes home buyers make

Buying a home will likely be the single biggest purchase you’ll make, and first-time buyers are being urged to do their research before hitting the streets.

Here are three things to avoid when it comes to the finances of purchasing your first property:

1. Falling short on the deposit

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A 10 percent deposit really isn’t enough these days – if possible, you should aim for 20 percent, said Sally Tindall, spokeswoman for RateCity.

10% deposit home loans

“10 percent deposit home loans are available on RateCity website, however it is worth comparing them to 20 percent deposit mortgages”

A deposit of 20 percent offers three big advantages. First, your interest charges are lower, simply because you borrow less to begin with, she said.

For a property worth $400,000, a 20 percent deposit means taking out a mortgage of $320,000, while a 10 percent deposit means a mortgage of $360,000, assuming you’ve paid lenders mortgage insurance separately.

“That’s $133 extra a month in interest charges that you’re effectively handing straight to your bank,” she said.

20% deposit home loans

Second, you’re less likely to pay a large cost called lenders mortgage insurance (LMI), she said.

lmi-400000
Estimated LMI on a $400,000 mortgage with a $40,000 deposit, based on the RateCity LMI Calculator

“Most lenders will insist on this insurance if you’re borrowing more than 80 percent of the property’s value. It’s a one-time cost, but generally gets rolled into your debt, so could add thousands to the amount you owe,” she said. “A deposit of 20 percent should see you clear of any requirement for LMI.”

Finally, it’s possible you’ll pay a lower interest rate or fees overall.

Monthly repayments 20% deposit vs. 10% deposit

 

“Many lenders tier their interest rates based on the deposit you’ve got; it’s definitely worth negotiating for better deal if you’ve got a higher deposit.”

2. Not allowing for a repayment buffer

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Lenders will look at your capacity to meet monthly repayments by examining your post-tax income and your other commitments. They will also most likely test your capacity to pay if interest rates go up by 2 or 3 per cent.

This is what is called the “repayment buffer”, and you should do your budgeting using an interest rate that’s at least 2 percentage points higher than current rates.

Wayne Stewart, from the Real Estate Institute of NSW said:

“When interest rates are low they can only go in one direction and that is upward, so you should always take into consideration with your due diligence and extra couple of percentage points for when interest rates do go up you can plan forward.”

EXAMPLE

Imagine you took out a $350,000 loan with a variable interest rate of 4 per cent. In 2 years time, that rate could rise to 6 per cent, which means you have to pay over $400 extra in monthly repayments, just 24 months after you took out the loan.

“If you hadn’t budgeted for that, you’d be joining the growing ranks of people who are falling behind on their mortgage payments,” said Tindall.

“Even if rates don’t rise, if you’ve got that buffer, you’re then in a position to increase your repayments voluntarily.”

3. Letting emotions get in the way

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When you’re looking at your dream home, it’s hard to stop and think about the costs over the next 20 or 30 years.

But doing the calculations and understanding what you can afford is vital before you even start looking at possible homes, insists Tindall.

First home buyers need to be cautious about sticking to their budgets and doing their research before hitting the streets. Shop around using sites like RateCity and compare home loan costs over the long term,” she said.

“My final piece of advice is not to ‘set and forget’. Don’t just stay with your current institution, compare mortgages online and be ready to haggle.”

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How much deposit will I need to buy a house?

A deposit of 20 per cent or more is ideal as it’s typically the amount a lender sees as ‘safe’. Being a safe borrower is a good position to be in as you’ll have a range of lenders to pick from, with some likely to offer up a lower interest rate as a reward. Additionally, a deposit of over 20 per cent usually eliminates the need for lender’s mortgage insurance (LMI) which can add thousands to the cost of buying your home.

While you can get a loan with as little as 5 per cent deposit, it’s definitely not the most advisable way to enter the home loan market. Banks view people with low deposits as ‘high risk’ and often charge higher interest rates as a precaution. The smaller your deposit, the more you’ll also have to pay in LMI as it works on a sliding scale dependent on your deposit size.

What is a low-deposit home loan?

A low-deposit home loan is a mortgage where you need to borrow more than 80 per cent of the purchase price – in other words, your deposit is less than 20 per cent of the purchase price.

For example, if you want to buy a $500,000 property, you’ll need a low-deposit home loan if your deposit is less than $100,000 and therefore you need to borrow more than $400,000.

As a general rule, you’ll need to pay LMI (lender’s mortgage insurance) if you take out a low-deposit home loan. You can use this LMI calculator to estimate your LMI payment.

What are the pros and cons of no-deposit home loans?

It’s no longer possible to get a no-deposit home loan in Australia. In some circumstances, you might be able to take out a mortgage with a 5 per cent deposit – but before you do so, it’s important to weigh up the pros and cons.

The big advantage of borrowing 95 per cent (also known as a 95 per cent home loan) is that you get to buy your property sooner. That may be particularly important if you plan to purchase in a rising market, where prices are increasing faster than you can accumulate savings.

But 95 per cent home loans also have disadvantages. First, the 95 per cent home loan market is relatively small, so you’ll have fewer options to choose from. Second, you’ll probably have to pay LMI (lender’s mortgage insurance). Third, you’ll probably be charged a higher interest rate. Fourth, the more you borrow, the more you’ll ultimately have to pay in interest. Fifth, if your property declines in value, your mortgage might end up being worth more than your home.

Will I have to pay lenders' mortgage insurance twice if I refinance?

If your deposit was less than 20 per cent of your property’s value when you took out your original loan, you may have paid lenders’ mortgage insurance (LMI) to cover the lender against the risk that you may default on your repayments. 

If you refinance to a new home loan, but still don’t have enough deposit and/or equity to provide 20 per cent security, you’ll need to pay for the lender’s LMI a second time. This could potentially add thousands or tens of thousands of dollars in upfront costs to your mortgage, so it’s important to consider whether the financial benefits of refinancing may be worth these costs.

How do I calculate monthly mortgage repayments?

Work out your mortgage repayments using a home loan calculator that takes into account your deposit size, property value and interest rate. This is divided by the loan term you choose (for example, there are 360 months in a 30-year mortgage) to determine the monthly repayments over this time frame.

Over the course of your loan, your monthly repayment amount will be affected by changes to your interest rate, plus any circumstances where you opt to pay interest-only for a period of time, instead of principal and interest.

Does Australia have no-deposit home loans?

Australia no longer has no-deposit home loans – or 100 per cent home loans as they’re also known – because they’re regarded as too risky.

However, some lenders allow some borrowers to take out mortgages with a 5 per cent deposit.

Another option is to source a deposit from elsewhere – either by using a parental guarantee or by drawing out equity from another property.

How do I take out a low-deposit home loan?

If you want to take out a low-deposit home loan, it might be a good idea to consult a mortgage broker who can give you professional financial advice and organise the mortgage for you.

Another way to take out a low-deposit home loan is to do your own research with a comparison website like RateCity. Once you’ve identified your preferred mortgage, you can apply through RateCity or go direct to the lender.

How much are repayments on a $250K mortgage?

The exact repayment amount for a $250,000 mortgage will be determined by several factors including your deposit size, interest rate and the type of loan. It is best to use a mortgage calculator to determine your actual repayment size.

For example, the monthly repayments on a $250,000 loan with a 5 per cent interest rate over 30 years will be $1342. For a loan of $300,000 on the same rate and loan term, the monthly repayments will be $1610 and for a $500,000 loan, the monthly repayments will be $2684.

How do I save for a mortgage when renting?

Saving for a deposit to secure a mortgage when renting is challenging but it can be done with time and patience. If you’re on a single income it can be even more difficult but this shouldn’t discourage you from buying your own home.

To save for a deposit, plan out a monthly budget and put it in a prominent position so it acts as a daily reminder of your ultimate goal. In your budget, set aside an amount of money each week to go into a savings account so you can start building up the ‘0’s’ in your account.  There are a range of online savings accounts that offer reasonable interest, although some will only off you high rates for the first few months so be wary of this.

If you aren’t able to save a large deposit, you can consider ways of entering the market that require small or no deposits. This can include getting a parent to act as guarantor for your home loan or entering the market with an interest only loan.

How can I avoid mortgage insurance?

Lenders mortgage insurance (LMI) can be avoided by having a substantial deposit saved up before you apply for a loan, usually around 20 per cent or more (or a LVR of 80 per cent or less). This amount needs to be considered genuine savings by your lender so it has to have been in your account for three months rather than a lump sum that has just been deposited.

Some lenders may even require a six months saving history so the best way to ensure you don’t end up paying LMI is to plan ahead for your home loan and save regularly.

Tip: You can use RateCity mortgage repayment calculator to calculate your LMI based on your borrowing profile

How can I calculate interest on my home loan?

You can calculate the total interest you will pay over the life of your loan by using a mortgage calculator. The calculator will estimate your repayments based on the amount you want to borrow, the interest rate, the length of your loan, whether you are an owner-occupier or an investor and whether you plan to pay ‘principal and interest’ or ‘interest-only’.

If you are buying a new home, the calculator will also help you work out how much you’ll need to pay in stamp duty and other related costs.

What is a variable home loan?

A variable rate home loan is one where the interest rate can and will change over the course of your loan. The rate is determined by your lender, not the Reserve Bank of Australia, so while the cash rate might go down, your bank may decide not to follow suit, although they do broadly follow market conditions. One of the upsides of variable rates is that they are typically more flexible than their fixed rate counterparts which means that a lot of these products will let you make extra repayments and offer features such as offset accounts.

How can I negotiate a better home loan rate?

Negotiating with your bank can seem like a daunting task but if you have been a loyal customer with plenty of equity built up then you hold more power than you think. It’s highly likely your current lender won’t want to let your business go without a fight so if you do your research and find out what other banks are offering new customers you might be able to negotiate a reduction in interest rate, or a reduction in fees with your existing lender.

What is an ombudsman?

An complaints officer – previously referred to as an ombudsman -looks at formal complaints from customers about their credit providers, and helps to find a fair and independent solution to these problems.

These services are handled by the Australian Financial Complaints Authority, a non-profit government organisation that addresses and resolves financial disputes between customers and financial service providers.